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May 6 “Flash Crash” Mystery Solved

A single firm, which one insider has labeled as Waddell & Reed Financial, caused the wild, brief Dow Jones plunge.

Waddell and Reed

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On May 6, 2010, the Dow Jones plunged almost 700 points in under a half-hour, only to recoup most of those losses within minutes. The extremely weird behavior was dubbed the “flash crash,” and theories abounded as to what might have caused it. A newly released report, jointly authored by the Securities and Exchange Commission and the Commodity Futures Trading Commission, have fixed the blame on a single large trader. The trading firm, which isn’t named in the report, apparently used a computer sell order, causing investors to swiftly pull their own money.

According to Reuters, a source familiar with the report says the firm was Waddell & Reed Financial Inc., a Kansas-based mutual-fund manager. It is an unlikely company to have caused such dramatic market behavior, according to some analysts. “They’re a long-term, buy-and-hold investor,” not known for active trading, consultant Geoff Bobroff told Bloomberg.

There had been no shortage of theories about what had caused the crash. Was it cyber-terrorism? Was it a simple computer glitch? Was it the “world’s most expensive typo,” in which someone accidentally wrote “billion” in place of “million”? All were proposed and one point or another. But the new 104-page report, which was written after the SEC and CFTC scoured great amounts of data and interviewed dozens of market players, reveals that it was a single sell order that was the culprit: “At 2:32 p.m., against this backdrop of unusually high volatility and thinning liquidity, a large fundamental trader (a mutual fund complex) initiated a sell program to sell a total of 75,000 E-Mini contracts (valued at approximately $4.1 billion) as a hedge to an existing equity position.”

The algorithm the trader chose disregarded price and time as factors, and the result was a trade that occurred “extremely rapidly,” according to the report–in just 20 minutes. The fact that the markets were already stressed due to the mounting credit crisis in Europe made the fast sell especially dangerous.

Now that the SEC and CFTC have weighed in, is the fun (and even the visual beauty) of all the theorizing over? Probably not: A government-issued report has never stopped conspiracy theorists before.

About the author

David Zax is a contributing writer for Fast Company. His writing has appeared in many publications, including Smithsonian, Slate, Wired, and The Wall Street Journal.

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